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Sunday, December 21, 2008

Raising Seed Capital In The "Great" Recession

I have met many entrepreneurs looking to raise an initial round of funding during these challenging economic times. They are looking for an initial round of funding to get their companies going, build product, create an initial launch plan, etc. Based on their feedback and my experience working with investors I am not so sure that they are looking in the right places to find seed capital.

In my previous blog I outlines the 09 outlook for some of the high profile VC's in the Bay Area. Their commentary plus some supporting advice from my own portfolio of VC's indicate that the traditional VC's are not overwhelmingly interested in investing in seed rounds in 09. This is not to say that it is an absolute no for this round. However, they would prefer investing in companies with some "traction". Traction is defined as having a product, a web site with traffic and even some form of revenue to validate the model.

A seed round should not be confused with an A round of funding. The practical and semantic differences between these two categories are subtle and important. A traditional VC considers an A round to be the step beyond the seed round. So when you are approaching a VC you should get some clarity on what their funding strategy constraints are and what they mean by the A round of funding.

Seed round funding is also defined in terms for the amount of funding. Seed rounds are usually below 2 million and can be as low as a 1/4 million.

So where can you find sources of capital for a seed round?

There are institutions and organizations that focus on early seed round funding. The following is a list of these sources. This list is not a personal endorsement of the sources. I have used some of them and others I have not.

Tech Crunch - This is the online group that provides news and information on all kinds of technology and business activity. They run a competition that leads to a top 50 list of companies that they think will be winners. This is a great way to get your company visibility. It is not a direct funding source but can lead to visibility that then gets a seed round investor interested.

YCombinator: Partners - This group actually contradicts my previous statement about minimum investment. They provide funding of between 10 and 20K and incubate your company in their environment. This is a good way to determine if you really have something that is worthy of a seed round. I also suspect that they have connections with seed and A round investors.

Angelsoft - This is an online service that has you enter an application/business plan for review by investors. They have a pool of investors that look at your plan and indicate if they are interested. If they are interested it is great because you can start a dialogue and off you go. If not it is difficult to find out why your plan has not been well received.

National Angel Investor Forum - This organization solicits a brief overview of your business online and then arranges for a real person to contact you if they are interested. If you pass the initial screen their committee will decide if an investment is appropriate.

First Round Capital - This is a traditional VC outfit that focuses exclusively on seed round funding. They have a traditional partnership and are a well established fund.

Maples Investment - Maples is a fund that is very close to a traditional VC fund with the exception that it does not fit the traditional partner model. Mike Maples plays a big roll in determining who gets the money.

Founder Contact Group - There is a fairly well developed network of organizations that will help you raise funding for a seed round. Founder Contact Group is one. These groups are good if you need help in reaching investors and or need some help in positioning your venture and developing a pitch.

There are high net worth individuals that are also a good source of seed funding. However, they very rarely advertise their services. Some notable Silicon Valley personalities that have made serious money on their companies or on investments come to mind. Out of respect for them I will not mention their names. You either need to be "connected" or be referred to get into this circle. There are brokers that can help you locate these individuals. The brokers themselves will charge some finders fee to get an audience for your plan.

10 comments:

Kevin,Thanks for your Leads. Your Blog is a timely guide for Start-up Entrepreneurs seeking "Seed Capital" in our period of this "Great Recession". I wonder however if you have any Lead seeking out Start-up Entrepreneurs in Developing Countries - and particularly.in the Philippines. Thanks again.Ernie / manilaman_ecc@yahoo.com

Possible. I am working with a group in Singapore that invests in the Philippines. I will learn more about them over the next several weeks and will keep you in mind if I feel confident that they are actively investing in your country.

Great post Kevin, if you want to addto your international list we are a seed fund based in Europe that invests in 'Italian driven innovation'. So far we have funded 7 italian startups: 2 based in the US and 5 in Italy.www.dpixel.it

I consistently get requests for funding and startup information from entrepreneurs outside of the US. I have personally been involved in discussions with a number of VC's outside of the US and consider VC's outside of the US to be great sources of capital to entrepreneurs in those countries and for startups not domiciled in the same country as the VC. In a future blog I will cover those resources. If any VC or investor would like to be identified in the future blog please let me know.

Excellent article. Here are some additional comments which may be helpful. With regard to seed stage cos, the entrepreneur really needs to consider just what it is that he is looking for relative to the objectives of the "funding class". By funding class, I mean FFF, Angels or VCs or PE Funds.

Often startup companies are better off considering those funding sources with objectives that match the parameters of a startup; in other words, the three F's (friends, Family and Fools) and then Angels - it the amount to be raised that is relevant: 200K - $2MM. VC's tend to look at ventures that require a bit more in funding and are a bit further along. So where does one find these sources (Angels, HNW individuals, etc)? One source that is often overlooked is, believe it or not, brokerage firms and Investment Advisors. Not the Schwabs of this world, but the local mom-n-pop operations. They ALL represent high net worth individuals, often who are members of Angel Networks, etc. Many individuals are retired execs who may have a big interest in your particular project... It may be counterintuitive to think of a broker dealer or an RIA for this purpose - because many BDs want a fee for their efforts (never pay anything up-front!), and it is relatively difficult to establish a working relationship with a BD or RIA- but - small broker dealers represent client investors who really do the lionshare of capital formation in this country. Don't think of the bg deals you hear mentioned in mainsteam financial media - think of all the small businesses that get funded every day. Banks often cannot make loans for these kinds of projects, and it is Broker Dealers and RIAs who pick them up. In the aggregate, there is a tremendous amount of capital formation that gets done at smaller BDs and RIAs.

But there is an interesting trend amongst those who do... Given the recent crisis, firms are lowering their risk tolerance accross the board. And broker dealers and RIAs are coping by spreading the risk - forming placement agent relationships with other broker dealers and advisors to take down deals.

These networks are becomming very powerful, and allow for rapid information sharing -cutting months off of the normal traditional process for raising capital. Unfortunately, there are relatively few resources for locating these networks. But if you have a "smaller" project you may be pleasantly surprised at the results. Right now they are all struggling to stay in business - which means on the one hand lowered risk per deal, but on the other hand means more collaborative activity - more firms doing more deals - which can speed the plow dramatically.

This would not apply, of corse, to those doing projects outside of the United States.

I never considered the broker route. It sounds like you have extensive knowledge in this space. The financial adviser route is something I am familiar with. It would be great if you could point us to a broker network or individual brokers that can help some of the entrepreneurs get that first round.Thanks,Kevin

MarkNZ,I doubt that US VC's would invest in a New Zealand startup unless the proposition was extremely compelling. However, I would not discourage you from submitting your business plan to a number of VC's to get their read on your business.You Never Know!!!